Gold and Silver Ownership and Prices Not be Affected by Dodd-Frank Legislation on July 15

The 2010 Dodd-Frank Act, and the regulatory legislation associated with it, is due to come into law in just over two weeks on July 15.

A number of clients, particularly U.S. clients, have contacted us regarding the possibility that the new legislation could lead to price falls in the gold and silver markets. Some were even concerned that it had implications for their ownership of physical coins and bars and for bullion stored in Western Australia, Switzerland and vaults internationally.

Concerns arose due to reports that retail foreign exchange, spread betting and CFD providers are set to discontinue offering their gold and silver over the counter products. These allow speculators to take leveraged positions, short and long, in over the counter derivative products.

After July 15, U.S. residents are prohibited from trading these OTC gold and silver derivative products. All precious metal transactions that are leveraged and not delivered in 28 days, must be conducted in a “designated contract market,” a board of trade or exchange designated by the CFTC.

Those who own bullion should be reassured that their bullion ownership will not be affected as the legislation does not apply to the physical coin and bar market.

The legislation will also not apply to contracts fully paid for or delivered within 28 days, and commodity futures contracts trading on an exchange such as the CME Group CME and the many other international exchanges.

With regard to prices, some are concerned that there could be spillover from the OTC derivative market into the futures and physical market. This is because the residual risk from OTC markets is hedged on the various precious metal exchanges. Thus, some are concerned that the unwinding of OTC positions by U.S. residents could put result in falling gold and silver prices.

We believe this to be very unlikely. We acknowledge that it may lead to an increase in volatility in the coming days and in the days preceding July 15th.

However, the off exchange derivative market is very small when compared to the global physical bullion market (coins, bars and London Good Delivery Bars) and the futures market internationally (New York Mercantile Exchange (NYMEX), COMEX Division; Tokyo Commodity Exchange (TOCOM); Dubai Multi Commodities Centre (DMCC); Shanghai Gold Exchange (SGE) etc..

OTC derivatives are used primarily by retail speculators and are not important from a price discovery point of view. Also, those using these derivatives were not buyers or long exclusively and many will have been shorting the market. Thus the hedging of product providers is likely to be reasonably neutral.

In conclusion, gold and silver bullion ownership and prices should not be affected by the upcoming Dodd-Frank legislation.

Prices are far more likely to be influenced by central banks increasing favorability towards gold as a reserve asset. UBS reported that gold will be the best performing asset for the rest of the year, citing their survey of sovereign institutions. It showed that the previous intention of central banks to reduce holdings within 10 years has disappeared.

The majority of central banks internationally intend increasing allocations to gold. This is not surprising given that the Federal Reserve, the BOE and the ECB are continuing to debase the major reserve currencies. It is also very understandable given increasing concerns about the U.S. dollar remaining the reserve currency of the wo